Demonetisation: A Geopolitical and Geoeconomic Game Changer for India

On the 8th of November, 2016, late in the evening Prime Minister Narendra Modi addressed the nation and announced that Rs 500 and Rs 1000 notes would cease to be legal tender effective midnight of that day in his fight against corruption and black money. In what will go down in history as a masterstroke against not just black money and corruption but much more; the Prime Minister completely surprised and even shocked the citizens and most of his cabinet of the world’s largest democracy. Since the time of assuming office, PM Modi has promised strict action against graft and black money. PM Modi ran a voluntary income disclosure scheme which he called the last chance for tax evaders that brought back over Rs 13,000 crore in 2016 from overseas. Simultaneously, India’s Intelligence Bureau has been on an aggressive breakdown of the infamous hawala network that facilitates the movement of funds in the parallel economy. Hawala is the route through which a majority of India’s unaccounted wealth is transferred overseas and is regularly used by rich businessmen to evade taxes as well as by politicians, the establishment, the political class and other people to store their ill-gotten gains. Needless to say, this has a negative impact on the economy as well as tax collection by the government. Hawala is also the route through which terror financing takes place and is used regularly by ISI.

India is the world’s fastest growing economy at $2 trillion. However, its black money economy is about 30 percent of its GDP making it a very significant number. Moreover, the bulk of this parallel economy is monopolised by criminal elements and the politicians that are hand in glove with these unsavoury elements for their political gains. Perhaps one of the most important impacts of demonetization will be on the Fake Indian Currency Notes (FICN) operating out of Pakistan that has pumped in over Rs 70,000 crore in India. The menace of FICN is so high that as per the Indian Statistical Institute out of 1 million notes in the economy as many as 250 are counterfeit with a minimum of Rs 400 crore in circulation at any point. Moreover, anywhere from Rs 70-100 crore of FICN is injected into the economy every year with the aim to “bleed India by a thousand cuts” out of which only a third is traceable by Indian agencies. As per a report by the RBI, Rs 500 and Rs 1000 notes constitute about 85 percent of the notes in circulation, making them the most vulnerable to the FICN racket as well as tools of cash hoarding. It is estimated that fake Rs 1000 notes make up almost 50 percent of the FICN by value. After the surgical strike to avenge Uri, this is another significant step to compel Pakistan to clean up its act.

FICN is used as a tool of economic warfare by ISI and nets it a profit upwards of Rs 600 crore annually which is then further used to fund terror activities against India. Moreover, the FICN racket is also useful in diluting the power of the Indian Rupee. The entry points of the FICN are Bangladesh, Sri Lanka, Nepal, UAE, Thailand and Malaysia and this has created a self-sustaining criminal network in South and Southeast Asia. Considering this counterfeit currency is only in large denomination notes, the demonetisation of these notes has in a single stroke, struck a deadly blow to ISI’s FICN racket leaving its existing stockpile irrelevant and with it it’s vast network of terror funders – the hawala network and money launderers.

Moreover, the ISI along with its other partners also funds the Northeast insurgency in India as well as the Maoists which presents a serious internal security situation. Demonetisation has struck a deadly blow to the existing stockpiles of the Naxals as they are now forced to find ways to deposit the money in banks (which is difficult) or lose their entire war chest. Moreover, the blow to ISI’s FICN also means that the Naxals will find it difficult to gain funding to keep their operations going and procure weapons. As per reports, Naxals will be forced to forget over Rs 1500 crore in funds. From the time, the banks have opened to accept cash deposits, huge amounts of money have been deposited in the Gadchiroli District, an area under the Naxalites’ Dandakaranya special zonal committee (DKSZC). This has led to Naxals using foot soldiers, NGO’s and common people as fronts to deposit money on their behalf; making it easier for the security agencies to track down the wolves crawling out of the woodwork. Simultaneously, the ISI-backed separatists in Kashmir have also been severely impacted. The stone pelters against the Indian Army in Kashmir are paid in notes of Rs500 and Rs 1000 by these separatists. With their money also becoming irrelevant, the stone pelters will not take to the streets.

We have already elucidated the benefits of demonetisation scheme which helps in countering fake currency, black money and the economic warfare launched by Pakistan against India. However, there is one more critical aspect of demonetisation i.e. crippling of narco-terrorism especially in states of Punjab, Jammu & Kashmir and North East India. It is widely known that the Afghan pipeline is used as a funnel to pump in narcotics like heroine grown in Afghanistan through porus borders in Punjab & J&K. A similar pipeline flows into North East India from Myanmar i.e. drugs flowing in from Golden Triangle. The proceeds from narcotics smuggled into India are used to fund Jihad and other terror activities in India. From Maoists in the Red Corridor to the Jihadists on the Indo-Bangla border districts, drugs sales have substantially become the base of funding of terror in India and with demonetisation, all these nefarious activities have come to a grinding halt. We have already discussed on narco-terrorism in detail in our book “The New Global Order”.

As we have seen demonetisation surgical strike by the Modi government has significant benefits yet there is another side of the story without which it would be unfair to judge the scheme in a wholesome perspective. While demonetisation offers some real tangible gains yet it has its pitfalls on various sections of society given India is predominantly a cash-driven economy. It is estimated that India’s cash economy is worth 14 to 15 trillion $. There is no conclusive estimate of the black money that is prevalent in the parallel economy in India tough Illegal Cash as a proportion of Black Money ranges between 2-5% of the Black Economy which could range between 1.4 lakh crore to 4.5 Lakh crore. Of the 14 lac crore, it is widely estimated nearly 3 Lac crore in Cash will not return for being black money. Hence, nearly 75% of Cash (of 500s & 1000 Rs denomination) is expected to come into banking system which on the other hand would cause significant cash crunch in various sectors in Indian economy like agriculture, daily wage labourers, small & medium term finance industry along with traders and transportation sector majority of whom depend on cash in running their operations.

It is necessary to analyse the pitfalls of demonetisation so to enable a more comprehensive response to tackle the loopholes and implementation hurdles being faced in this path-breaking scheme to rid India of ill-gotten wealth. Demonetisation will have a critical impact on various sectors like agriculture where Rabi crop sowing is likely to be hit with the majority of farmers buying seeds and fertilisers in cash of the proceeds they received from the sale of Kharif crop. The Modi government to avert an agrarian crisis after a bumper monsoon reacted to the situation by allowing the farmers in India to buy seeds from state corporations and PSU using old Rs 500 currency notes. This relaxation will go a long way in calming nerves of the rural sector which was in dilemma due to cash crunch following demonetisation. Another sector which is hit by demonetisation is small & medium term finance industry (SMTFI), where small loans are doled to rural households, workers etc for operating small businesses, enterpenural enterprises to sustain a basic livelihood. With sudden demonetisation announcement, this whole sector came to a grinding half making lending as well as repayment of loans in higher denomination extremely difficult. However, the RBI after 2 weeks has finally given a window to SMTFI to repay the loans or interests this quarter with some laxity in rules thereof. The demonetisation drive has also hit wedding season with scores families facing cash crunch ultimately making the government to finally allow an exemption of 2.5 Lacs on certain conditions for such households. It has adversely impacted the tourism industry with aviation industry already report 10% fall in flight occupancy in the first week after demonetisation.

The other sectors that have born the collateral damage of the surgical strike on black money are the traders and transportation sectors as well small and medium scale industry. Another vast section of middle & lower middle class in India like traders have borne the brunt of demonetisation with severe cash crunch the consumers have been largely elusive in the market though the after initial panic, calm and crowd have returned back to the markets yet the purchasing power of the public remains limited and only confined to goods of essential commodities or eateries which have recovered from the initial slump. The lack of demand of high-value capital goods especially in small towns and cities have affected the trader community hard many of them even shutting shops for days in Delhi/NCR and elsewhere slowly getting to terms with the new reality. It is estimated that accumulated losses in Mumbai in first 9 days after demonetisation have been running in thousands of crores with retail suffering losses of Rs 3150 Cr, daily wagers suffering a slump of Rs 980 Cr and even octroi loss accounting of Rs 180 cr. The losses to traders in Delhi/NCR would be far greater in number compared to Mumbai and other metros and is likely to significantly impact the politics as traders are the core vote banks of ruling BJP. Apart from traders, another critical sector that has suffered due to cash crunch has been transportation sector of whom nearly 80% depend on cash for running of daily business and transportation which is the lifeline of India and could adversely impact the food supplies across the country.

It to be understood here that India is primarily a cash driven economy where a host of goods and services in India are transacted daily in cash which also includes savings by small rural households. It is estimated that India’s cash to GDP ratio is one of the highest in the world with 10.63 % lower than Japan 20.66%, Switzerland 11.76 %, while developed economies like US & UK have much lower ratios of 7.9% and 3.72% of GDP. The penetration of digital economy or the Internet is far from adequate to implement the idea of cashless economy, credit and debit cards or using platforms like PayTM. It is estimated that internet coverage in India is only 36% of the total population of 1.25 Billion, while according to Boston Consulting Group (BCG) Report non-cash payments in India made up only 22% of all consumer transactions in India in 2015. The report, however, predicts that by 2020 nearly $ 500 billion worth transactions in India will happen digitally. The BCG report also states that nearly 68% of consumers who shop online prefer cash on delivery option being habituated to cash. Further, the RBI Data shows that various banks in India have issued 25.9 million credit cards and 697.2 million debit cards as of July 2016. There has been increased switch to these credit based digital platforms among traders and small vendors after demonetisation, yet its penetration in rural India is woefully inadequate. It is essential that while the drive towards a cashless economy and more transparent one makes sense yet it must be planned thoroughly with getting basic infrastructure first to all parts of India to make sure that the change being heralded by demonetisation is credible and long lasting. Although the push for cashless economy & digital banking is good yet the government needs to make sure it has its digital networks secured from the hacking of the kind that happened a few weeks back where millions of debit card holders accounts were hacked and people lost balance in their account. This will go a long way in making the transition to digital banking more secure and assure.

Coming to the implementation part of demonetisation, it is imperative to state that the scale of exercise being attempted is humungous and requires active support from the citizenry. To understand the scale of the challenge one needs to glance through sheer volume of Currency that has been demonetised and is being replaced. It is estimated by RBI that nearly 1571 Cr notes of Rs 500 Denomination and 633 Cr notes of Rs 1000 amounting to 86% of Indian Currency was demonetised. This was bound to create huge liquidity crunch in the Indian economy that would have to be filled up with new notes of Rs 500 denomination and new notes off Rs 2000 denomination. Given the minting capacities of Mysore Press of 300 Cr Notes per months by December Rs 2000 notes could sufficiently fill the gap of Rs 1000 denomination. However, the printing of Rs 500 new currency could take a couple of months longer given the volume and the capacity of the printing press at Nasik & elsewhere. The logistical problems like shortage of currency have caused substantial hardship and inconvenience to the common man who had to stand in queue before banks and ATM’s to get his legal money exchanged or withdraw the same. It has also been alleged that this demonetisation has lead to the death of several people, while it may be true it is need of the hour that the government of the day and politicians at large do not dehumanise the whole exercise of demonetisation. The onus lies on the government to extend a compassionate hand to people who have graciously supported this move despite all the inconvenience for the better good of the country. It is equally important at this critical time that people should avoid stoking classist rhetoric of Rich vs Poor and that being Poor is a virtue or a certificate of honesty and those standing in queue are corrupt. It is time to unite as Indians and lend a hand to Government of the day in making this a success.

The challenges the Modi government faces in logistically implementing demonetisation are huge from currency printing to calibrating nearly 2,00,00 ATM machines or managing the spectre of economic contraction lead by falling demand & production owing to a cash crunch. The implementation of this large-scale operation in any democracy has never been attempted, though such operations have earlier failed in countries like Russia, Zimbabwe, Gambia etc. The extrapolation of Currency demonetisation in countries like Russia is not comparable with India as India is far stronger economy than USSR was at the end of the cold war with a closed model and hardly any penetration of digital banking and e-commerce. Yet despite these challenges and inevitable flaws in the implementation of the scheme the Indian government has indeed taken a bold measure to curb black money and root out terror funding as we have already elucidated above. The Govt of India’s campaign has begun to show initial results with nearly Rs 5.5 Lac cores being deposited or exchanged by the public as per the RBI statement on 21st November 2016. It has been estimated that nearly Rs 1.36 lac cores have been withdrawn by the public from ATM or bank branches. However, it has to be stated in all fairness that the cash proportion of black money in India is limited and that majority of black money is stashed in benami property in real estate, bullion (Gold), foreign exchange and tax havens from which its round tripped in form of FDI back into India through shell companies.

With sudden demonetisation of 86% of Indian currency aftershocks in various sectors of Indian economy are expected, already people in sectors like real estate, jewellery have taken a big hit following the cash crunch and the Income Tax raids laundering of black money through these channels. While there will be inevitable consequences of an economic contraction in short-term after demonetisation due to fall in demand, production affecting jobs and industries, it is imperative that govt. of the day takes effective remedial measure to contain the contagion effect of the cash crunch in the economy. The govt. could take various steps like reducing the Income Tax on the middle class and lower middle class giving them more purchasing power spurring demand or prodding the banks to ensure more credit is available to small industries at a lower interest rate which could sustain the economic growth cycle with minimal damage. The liquidity that banks in India are likely to achieve could ease the stress that the banking sector was facing giving a boost to the economy. While the few quarters of the economic growth could be subdued yet this demonetisation could ultimately end up benefiting the growth by 1-2 % in long run. This demonetisation, as a result, is also likely to impact Make in India positively. The real estate sector which is a favourite method of hoarding black money may lose its bubble making home prices more affordable. The government is also likely to have a windfall in the tax collection as people will be forced to pay penalties on this unaccounted money that is being deposited as a significant amount of black money will be converted from black to white. This revenue generation along with a boost to the economy is likely to stretch the Rupee’s purchasing power, giving the government more money to deploy for its soft power as well as welfare measures for the poor.

Moreover, demonetisation could also result in a systemic cleansing of the electoral process. political parties need black money to fund their election campaigns, buy votes and offer doles. This creates the need for the generation of black money. In the process, political parties are also forced to tie up with nefarious elements to meet their funding needs giving foreign powers and their proxies, a say in the policies of the political parties post attaining power. The rot in the electoral process has been going from bad to worse with large seizures of cash during election times becoming the norm. Thus, in the short to medium term, the political parties that had accumulated stacks of cash for bribing voters are going to feel the heat and this explains the heartache of a majority of political parties in the country. All in all, this move has eliminated several birds with one stone!

Does this mean that India is on the way to becoming a cashless economy? The answer to that is in the negative. A bulk of India’s workforce is engaged in agriculture and rural India is still operating heavily in cash. The Modi government has begun the process of reducing the percentage of the cash economy in rural India as well as the blue collar workers and the Pradhan Mantri Jan Dhan Yojana was the first step in this direction along with the linking of these bank accounts with the Adhaar initiative for the transfer of social security. In addition, the health insurance scheme, Atal Pension Yojana, Pradhan Mantri Suraksha Bima Yojana, Mudra Bank for SMES etc offered by the government as well as farmers crop insurance, transfer of LPG subsidy by bank accounts are other significant steps in making the economy stronger and less prone to the generation of black money.

These are significant steps but for the generation of black money to completely stop, the government will have to make the cost of holding unaccounted money very high for its citizens. This will necessitate stronger laws to ensure the tax evaders are brought to justice, judicial reforms and an overhaul of the civil service as well to prevent graft. The government could also consider revising the rates of income tax to bring a larger percentage of individuals in the tax paying bracket, removing their incentive to hold unaccounted money. Demonetisation is just one step in the beginning of the fight against black money and corruption, it needs to be followed up with more steps in sectors like real estate, gold and tax havens to curb the menace of black money. It has also to be understood that Narendra Modi’s surgical strike on Black Money has been perfectly timed with the arrival of a Trump Presidency which is likely to be a protectionist one, a likely rate hike by Federal Reserve in near future amid a Chinese slowdown. Thus the liquidity the Indian banking sector achieved by this demonetisation could further insulate the Indian economy from a likely recession or a liquidity crunch which could otherwise be catastrophic. Thus, the demonetisation strike by PM Modi could do down in history as a geopolitical and geoeconomic game changer for India.

Asian Warrior is a team of young likeminded people working towards the common goal of understanding the dynamic patterns across the globe. Our primary focus is geopolitics to discover social, economic and political patterns in related to foreign policy and national security. We also study its impact and significance on humanity in the times to come.
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